April Nonfarm Payrolls

Highlights

Nonfarm payrolls surged in April as firms added 244,000 new jobs during the month. The Briefing.com consensus expected payrolls to increase by only 185,000 jobs.

On top of the April gains, payrolls in February and March were revised up from 194,000 and 216,000, respectively, to 235,000 and 221,000.

Unfortunately, while firms are revealing more jobs, the number of people actually employed declined considerably in April. The unemployment rate increased from 8.8% in March to 9.0% in April. The consensus expected the unemployment rate to remain unchanged.

Key Factors

Even though April payroll growth greatly outperformed the consensus expectation, it is difficult to describe the gains as a surprise. Normally, payroll forecasts are based upon changes in initial and continuing claims levels. However, for the past four weeks exogenous factors have upwardly biased the jobless claims data. Therefore, there was a high probability of the consensus forecast underestimating payroll growth.

This is not to suggest that the gains in April should be discounted. The growth was certainly strong enough to showcase a solid improvement in the labor situation and provide evidence of a growing economy.

In fact, private payrolls added 268,000 jobs during the month. This was the most jobs added in one month since November 2005 when private payrolls added 304,000 jobs. The consensus expected private payrolls to increase by only 200,000.

Typically, the unemployment rate and payrolls move in lockstep with each other, but it is not abnormal for the surveys to move in opposite directions. When this happens, the two surveys tend to converge within a month or two.

It is unclear, however, if the increase in the unemployment rate this month is foreshadowing a potential weakening in payroll growth next month or if the drop in employment is corrected in May.

Big Picture

The labor market is recovering in a more deliberate fashion which, in turn, is helping to keep wage inflation in check. The stock market of course has fared just fine in recent months digesting that reality. That should continue to be the case, because the prevailing message is clear: labor trends are improving, but not at a fast enough pace for the Fed to take its foot off the quantitative easing pedal.

In Brief

The employment report is actually two separate reports which are the
results of two separate surveys. The household survey is a survey of roughly
60,000 households. This survey produces the unemployment rate. The
establishment survey is a survey of 375,000 businesses. This survey produces
the nonfarm payrolls, average workweek, and average hourly earnings figures, to
name a few. Both surveys cover the payroll period which includes the 12th of
each month.

The reports both measure employment levels, just from different angles.
Due to the vastly different size of the survey samples (the establishment
survey not only surveys more businesses, but each business employs many
individuals), the measures of employment may differ markedly from month to
month. The household survey is used only for the unemployment measure - the
market focusses primarily on the more comprehensive establishment survey.
Together, these two surveys make up the employment report, the most timely and
broad indicator of economic activity released each month.

Total payrolls are broken down into sectors such as manufacturing,
mining, construction, services, and government. The markets follows these
components closely as indicators of the trends in sectors of the economy; the
manufacturing sector is watched the most closely as it often leads the business
cycle. The data also include breakdowns of hours worked, overtime, and average
hourly earnings.

The average workweek (also known as hours worked) is important for two
reasons. First, it is a critical determinant of such monthly indicators as
industrial production and personal income. Second, it is considered a useful
indicator of labor market conditions: a rising workweek early in the business
cycle may be the first indication that employers are preparing to boost their
payrolls, while late in the cycle a rising workweek may indicate that employers
are having difficulty finding qualified applicants for open positions. Average
earnings are closely followed as an indicator of potential inflation. Like the
price of any good or service, the price of labor reacts to an overly
accommodative monetary policy. If the price of labor is rising sharply, it may
be an indication that too much money is chasing too few goods, or in this case
employees.

In Depth

The employment report is really two reports - the household survey and
the establishment survey. These two surveys contain a wealth of timely
information which justify this report's status as the most important economic
release of the month. This same wealth of information can nevertheless turn
into a dearth of knowledge if it is not placed in the proper context.

Household and Establishment Surveys

The household and establishment surveys differ due to the source of the
data, as the names suggest. The household survey is a survey of households and
the establishment survey is a surveys of businesses. The establishment survey,
which is sometimes referred to as the payrolls survey, is favored by the market
for a simple reason - it is far more comprehensive. Both surveys attempt to
measure employment conditions at the roughly the same point in time - the
household survey covers the calendar week which includes the 12th of the month
while the establishment survey covers the pay period (be it a week, two weeks,
or longer) which includes the 12th. But the establishment survey covers 390,000
businesses which employ 47 million people, while the household survey covers
just 50,000 individuals. With a sample size which is 940 times larger than the
household survey, it is hardly surprising that the market is more interested in
the establishment survey.

Aside from the sample size, the surveys differ in other significant
ways. The household survey counts farm workers, the self-employed, unpaid
family workers, and private household workers as employed; the establishment
survey does not. The household survey can only count one individual as employed
once, even if that person holds two jobs. The establishment survey will double
count an individual who appears on the payrolls of two companies. There are
other, less significant differences, but let's turn now to the statistics
produced by the two surveys.

The Establishment Survey

Nonfarm Payrolls

Without question, the single most important piece of data contained in
the employment report generally and the establishment survey specifically is
nonfarm payrolls. As the name implies, nonfarm payrolls measure the number of
people on the payrolls of all non-agricultural businesses. The monthly changes
in payrolls can be quite volatile, occasionally varying by better than 200K
from one month to the next. Even with this volatility and the possibility of
large revisions to past data, the payrolls figures offer the most timely and
comprehensive snapshot of the economy.

Average Workweek

The workweek, also referred to as hours worked, is an often underrated
indicator in the establishment survey. The average number of hours worked by
employees on nonfarm payrolls is an important determinant of both industrial
production and personal income in any given month. The workweek typically sees
changes of a tenth or two each month, but can see much larger swings, such as
the four tenth decline reported for October. To understand the importance of
these changes in the workweek, note that a one tenth decline in the average
workweek of 120 mln workers (roughly the current level of employment) results
in 12 mln fewer hours worked. To create a similar decline in manhours through a
change in employment, payrolls would have to fall 340K. For the purposes of
production and income calculations, a one tenth of an hour change in the
workweek is equivalent to a 340K change in employment. Needless to say, the
workweek data are therefore critical in judging the overall strength or
weakness of the employment report.

Aggregate Hours Worked

The aggregate hours worked index simply brings together the two series
we just noted. By calculating an index which looks at both employment and the
workweek, we get a complete picture of the total hours worked each month. This
indicator is seen as a monthly proxy for GDP. By definition, the quarterly
change in the amount of goods produced is equal to the change in manhours plus
the change in productivity. As productivity is somewhat predictable from
quarter to quarter, the aggregate hours worked index provides a helpful monthly
read on the overall economy.

Average Hourly Earnings

The last indicator from the establishment survey which is worthy of
close inspection is average hourly earnings, which is important for two
reasons. Alongside total manhours, the average earnings figure gives us a good
indication of personal income growth during the month. Second, the earnings
figures are closely watched during periods of strong economic growth for
evidence of increasing wage pressures. Such has certainly been the case over
the past year, as the market's reaction to the employment data has often turned
on the change in hourly earnings and its implications for the inflation
outlook.

The Household Survey

The Unemployment Rate

As we noted earlier, the household survey is not nearly as reliable as
the establishment survey due to the small size of the survey sample. This
survey nevertheless receives attention, primarily because it is responsible for
the one figure which is guaranteed to lead the nightly news - the unemployment
rate. The unemployment rate demands little explanation, though it is worth
noting that the rate can occasionally sees significant monthly changes which
are due to flukes in the data. The rate is simply the result of dividing the
number of people unemployed (labor force less employed) by the number of people
in the labor force.

The problem is that the employment and labor force measures in the
household survey are far more volatile than even nonfarm payrolls. The reason,
of course, is the small survey sample size. It is therefore useful to look at
the labor force and employment figures themselves to determine if changes in
the unemployment rate are due to aberrant swings in one or both of these
series.

Beyond the basics of tallying up the labor force and employment, the
household survey breaks down these totals in every way imaginable - by gender,
race, age, type of job, duration of unemployment, and on and on. These
breakdowns seldom are of interest to the financial markets. Perhaps the only
two exceptions are the discouraged worker and part-time worker measures.

Discouraged Workers

Discouraged workers are people who have dropped out of the labor force
because they have become discouraged about their job prospects. During hard
times, this statistic is often watched alongside the unemployment rate. If the
job situation gets exceptionally bleak, it is possible to see the unemployment
rate remaining stable not because people are finding jobs, but because they
have given up looking and dropped out of the labor force.

Part-Time Workers

The issue of part time employment has arisen in recent years as many
analysts have argued that strong payroll growth reflected the increase in the
number of workers holding multiple part-time jobs. Since the payroll data do
not differentiate between full and part-time workers, it is possible that a
sudden surge in part-time employment which reflected poor full-time job
prospects would actually boost payroll growth. In reality, it does not appear
that this has happened, as part-time employment has been relatively steady in
recent years. This figure nevertheless receives attention from time to
time.

The Big Picture

Given the wealth of data contained in the employment report, it is
important to take all of these indicators into account when passing judgment on
the report. Looking at payrolls along is often misleading, as the workweek,
earnings, and household employment measures may be telling a different story.
Taken together, however, and taken with the caveats concerning monthly
volatility and revisions, the employment report offers the best monthly glimpse
of the economy.